Dirty laundry

This was a blatant case of money laundering – a process designed to disguise the origins of money gained through criminal activity. These crimes can include drug trafficking, smuggling, fraud, extortion and corruption.

Methods used to mask the financing of terrorist groups also can be referred to as money laundering. Financing terrorism can be as simple as paying the living expenses of the members of a terrorist cell in Canada – thus, the amounts involved can be relatively small. Financing terrorism also can involve raising funds for a “charity” in Canada, then sending those monies to dubious groups outside the country.

Money laundering is a problem that compromises the integrity of legitimate financial systems and institutions, according to the Financial Transactions and Reports Analysis Centre of Canada (FINTRAC), the federal agency that oversees the reporting of suspicious transactions. Everyone in the financial services industry has a part to play in reporting suspected cases of money laundering.

In the financial advisory sector, anti-money laundering (AML) compliance generally begins at the firm level. Financial advisors are not even mentioned directly in the Proceeds of Crime (Money Laundering) and Terrorist Financing Regulations – the rules governing the way financial services firms deal with suspected cases of money laundering – says Peter Lamey, spokesman for FINTRAC in Ottawa. Instead, the legislation applies to organizations such as securities dealers, financial services entities and insurance brokers. Advisors who are registered with any such organization, Lamey says, would then be covered by the law.

AML legislation gets drafted by the Department of Finance Canada; FINTRAC is responsible for ensuring organizations comply with those regulations. Under the current legislation, investment firms are required to have an AML compliance regime in place, which should include such provisions as written policies for AML, ways of assessing the risk that clients may be involved in money laundering, measures to mitigate that risk and an AML compliance officer (CO).

The AML regulations are specific in many of their requirements, says Jacqueline Shinfield, partner with Blake Cassels & Graydon LLP in Toronto, such as the collection of identification and other information from clients. But some sections are open to interpretation. For example, institutions are required to create systems for rating the risk that clients are involved in money laundering, but how the firms devise those systems is left up to the individual firm.

Still, although firms bear the responsibility for drafting AML compliance policies, advisors are the first line of defence when it come to reporting suspicious activity.

“[Advisors are] used to having conversations about very personal matters,” says Scott. “So, there is a unique opportunity for advisors to ask the types of questions that most people couldn’t ask.”

Below are eight steps you should take to ensure you are fulfilling your AML responsibilities:

– ASK FOR ID – AND CHECK IT OUT

As part of AML due diligence, you need to be particular when gathering identification from your new clients.

In broaching the topic of identification, it’s important that you keep the conversation casual, especially if it’s necessary to collect information again from a current client. Instead of saying that the information is required because you suspect the client of money laundering, Scott says, tell the client that it’s necessary because of new regulations and an increase in due diligence. The key is to maintain a casual demeanour and avoid any kind of incriminating tone.

Once you have the ID information, pay attention to the details. When your client presents his or her driver’s licence as proof of identity, Scott says, record the province of issue, the driver’s licence number, the date of issue and the expiry date.

The provincial jurisdiction of a driver’s licence can be a potential red flag for money laundering. For example, if your client says he has been living in Toronto for 10 years, yet he still has a British Columbia licence, you should ask why.

– EVALUATE THE RISK

FINTRAC regulations stipulate that firms must have a documented risk assessment of their clients – that is, a measurement of the degree to which each client might be involved in money laundering, including an assessment of the financial products the client buys and sells, as well as his or her overall financial behaviour. For example, is the client involved in an unregulated, often cash-based business such as a used-car lot?

While firms are left to create their own risk-assessment policies, there are ways you can determine whether one of your clients might be a money-laundering risk.

For example, try to access public information through Internet searches or subscription-based databases, such as World-Check. If the client owns a business, request financial statements and tax returns.

“The higher-risk the client,” Shinfield says, “the more information you’ll get so you can get comfortable with the source of his or her funds.”

– WATCH FOR POLITICAL EXPOSURE

FINTRAC requires that financial services firms determine whether their clients are “politically exposed foreign persons” (PEFP). Such individuals, according to Scott, may be targeted by international criminals or terrorists as vulnerable to bribery or other forms of corruption. A member of a foreign government, an ambassador or a court judge would be considered a PEFP. As well, the family members of those individuals also can be considered PEFPs.

It’s not enough to identify a PEFP, says Rudy Duschek, senior consultant with Chris Mathers Inc. in Toronto: “Even when firms have clients who are acknowledging that they are a [PEFP] by definition, there seems to be very little followup.”

Firms are required to have policies for dealing with PEFPs. It is your job to follow those procedures to discover the source of your client’s funds.

– FOLLOW THE MONEY

Instead of focusing on the size of a client or prospect’s account, what’s important is where those assets are coming from, says Jennifer Fiddian-Green, partner and lead, national forensic and dispute resolution practice, with Grant Thornton LLP in Toronto. “You really want to get at the source of wealth,” she says. “What is the source of the money and the accumulated wealth of that person?”

Finding that information will require much more than a glance at a bank statement. If money is transferred from a Canadian bank to the account your client holds with you, Fiddian-Green says, you should not be satisfied that the money originated at that bank. Find out where the money came from before it was deposited into the bank. If the money was part of a business transaction, ask to see the documentation. If your client says it was an inheritance from a family member, it may be necessary to see a copy of the will.

– TAKE A SECOND LOOK AT BUSINESSES

This past March, the federal government announced changes to the AML regulations, which will come into effect in February 2014. These include the requirement that advisors and their firms identify the beneficial owner of any business in which a client is involved.

FINTRAC defines “beneficial owner” as an individual who owns, directly or indirectly, 25% or more of the entity. Clients acting on behalf of an unknown, third-party beneficial owner may be at risk of money laundering. A particularly obscure or remote business structure could make it harder to identify the true beneficial owner and, therefore, poses a higher risk.

If your client is not the beneficial owner of a company in which he or she is involved, Duschek says, you will need to see proper documentation that identifies the beneficial owner.

“It’s not sufficient to get documentation that shows one corporation happens to be beneficially owned by another corporation,” Duschek says. “You have to keep looking through until you can find the individuals who are behind that.”

– NOTE THE DETAILS

Proper AML due diligence is about more than asking questions or checking off boxes on a list. To make the information count, you have to write down the details.

“I can sit down with any advisor across Canada,” Scott says, “and they’ll be able to tell me volumes of information about any of their clients and why that client may or may not have any thing to do with money laundering and terrorist financing. But a lot of it isn’t kept in any type of documented record.”

You probably know more about your clients than anyone. Be sure to note all details in writing and report any suspicions to your compliance department.

– MONITOR YOUR CLIENT ACCOUNTS

Once your clients’ information is documented, it’s important that you update those files frequently.

After you have established where your client’s wealth is coming from, Fiddian-Green says, you now have to note any money that may be coming from different sources. Also, watch for a sudden change in the amounts that your client is depositing.

“We don’t want financial advisors to be turned into money-laundering investigators,” Fiddian-Green says. “But they have to have their radar screens up and say, ‘Why are we doing this differently? Where is this money coming from? How does this work? How does this fit into what I know about you?'”

Scott agrees, adding that you need to trust your “Spidey” sense. Ask more questions and file a report with your compliance officer if you feel something isn’t quite right.

The amended AML regulations define a “business relationship” and clarify ongoing monitoring requirements. A “business relationship” is the services provided to a client by a firm.

According to Fiddian-Green, that relationship must be monitored holistically. For example, if your client has both a banking account and investments with a firm, those accounts must be monitored as one relationship.

Regarding ongoing monitoring, the rules previously just implied the need to watch every account, says Shinfield. Now, the regulations explicitly require vigilance, regardless of client risk level.

– FLAG SUSPICIOUS TRANSACTIONS

If you suspect a client of money laundering, send a report to your CO. A report to FINTRAC also might be required.

How a suspicious transaction report is processed will depend on your firm’s policies, Shinfield says: “Whenever there is a suspicious activity, a suspicious transaction report must be filed and someone has to take responsibility for it. That’s usually determined by an internal process.”

Once a suspicious transaction report is made, Scott says, you are protected under the law, will remain anonymous and can’t be sued over that matter.

As well, just because you flag a suspicious transaction with your compliance department, that doesn’t mean you have to end the client relationship.

“The law,” says Lamey, “doesn’t require that you stop doing business with the client.”

In fact, continuing the relationship can be helpful for FINTRAC, as you may spot other suspicious transactions that will help the agency make its case.

FINTRAC typically brings proceedings against organizations, not individual advisors, Shinfield says, although you could face penalties if you act independently. Penalties can range from $1 to $500,000.

In the end, your responsibility is to report your suspicions.

“The financial advisor is not an investigator,” Fiddian-Green says. “You’re not the police; you’re not the judge; you’re not the jury. You are being asked to report things that are suspicious.”

Note and report these red flags

If something just doesn’t seem right when you’re working with a client, you are obligated to raise the issue with your compliance department. What sorts of transactions should you consider suspicious?

The following three types of activities should raise red flags:

– Large cash deposits

Generally, people who commit crimes are remunerated in cash, says Amber Scott, senior manager of financial crime risk and compliance with MNP LLP. Therefore, any large deposits of cash should raise questions.

Even if your client seems to have an upstanding background and profession, large cash transactions should be looked at with suspicion.

“I can be the CEO of [a major corporation],” says Scott. “But if I show up at your office with a briefcase that has $35,000 in cash, you probably need to start asking some questions.”

– No concern for fees

Clients generally are hostile toward fees, such as management expense ratios on mutual funds. So, Scott says, if your client seems too eager to make a transaction to question extra fees, the situation may warrant more scrutiny.

– Complex business structures

Clients involved in money laundering may try to hide behind complicated business arrangements.

For example, if your client’s business is owned by three layers of companies, that may be a sign that your client has something to hide.

© 2013 Investment Executive. All rights reserved.